Implications of Corporate Collapses: A Case Study of Harris Scarfe

AUDITING THEORY AND PRACTICE

The corporate scandals in Australia during 2000 shook the public confidence and trust in the
accounting and auditing industry. The audit industry, as a result, decided to test all the
procedures and policies so as to understand the root of such scandals, that is, from where the
default is arising such as due to weak internal control, audit committee, ethical issues, absence of
professional conduct from auditors, management's responsibilities or the legal liability of auditor.
The following discussion is about implications of corporate collapses by having reference to the
case of Harris Scarfe which took place in 2001 and was collapsed with a debt of $265 million
dollars (Calderon, Song, & Wang, 2016).
The Harris Scarfe Limited not only suffered a severe decline but brought adverse impact on the
accounting & auditing profession. However, before discussing about the root causes and
initiatives taken, let us first have a discussion regarding the issues behind such a collapse. The
conflict arose in March in the company's stock position in the market. One of the main reasons of
its declining is the default in the setting of company’s records and picturing a fraud expression to
its stakeholders. It was a big question that why the company was never involved in any financial
problems and suddenly, it declared voluntary declaration in 2001 due to heavy cash flow
troubles. The statement made on this for explaining the conflict was that Hodgson used to make
a few book entries that inflated its stock price and resulted in rolling of profits (Jensen &
Meckling, 1976). But, when the trading didn't take place, he started making bigger entries and
that continuance led to cash flow problems. Basically, the company was involved in fraudulent
representation of higher profits. With this, we need to understand those roles that lacked
professionalism and ethical standards. However, our discussion requires the audit issues related
with such collapses. So let us discuss the audit issues with such a corporate scandal:
 Audit Committee: Audit Committee is responsible for assisting the board of directors
regarding the financial information to be disclosed in the financial statements, preparation
and presentation of such financial information and monitoring & assisting the audit team
in their work. They are responsible for advising the BOD in fulfilling its responsibilities
towards its shareholders by providing them all the material information of the company
they have invested in whether in terms of finance or trust or both. It is basically
responsible for taking decisions such as nomination of auditor, scope of management's
responsibilities, etc. It regularly meets with the external auditor team to review their

progress, findings and resolves their doubts and conflicts with the management (Joubert,
2017). The basic requirement of audit committee is having three to five directors who are
independent in nature. The composition of audit committee of Harris Scarfe is as follow :
MEMBER POSITION IN
ORGANIZATION
INDEPENDENCE STATUS
J M PATTEN (CHAIR) INDEPENDENT DIRECTOR INDEPENDENT
A J TRESCOWTHICK EXECUTIVE CHAIRMAN NON-INDEPENDENT
A HODGSON CHIEF FINANCIAL
OFFICER
NON-INDEPENDENT
The above table clearly establishes the fact of not complying with the audit committee
requirements as majority directors are non-independent. The reason of expecting independence
from audit committee is they stand at a position to communicate with both the internal audit team
and external audit team so that there is no constraint or restriction on the scope of their work. As
there is an absence of independency in the Harris Scarfe's audit committee's composition, it is
expected of it not working at its full potential. Also, where the audit committee is required to
meet at least four times a year, the audit committee under question met thrice in 1992, twice in
1997,1999 and 2000 and just once in 1996. While it is difficult to test the effectiveness of these
meetings, the infrequency of meetings wasn't a good sign (Knubley, 2010).
 Ethical Issues: Ethics is an important tool for the professionals and for those who trust
on their services. The intended users of the financial reports require the financial
statements to be objective, reliable and highly contented. This is why, it is important for
the accounting and auditing professionals to act ethically in their professional
competence. In highly competitive markets, ethics act as a challenge for auditors to keep
their client's needs aside and act independently without concerning about profits they
could have earned and provide highly qualitative audit reports (Monk and M.S Wilson,
2016). Thus, the question arises on the independency of auditors as well as the non audit